Tying in Universal Banks

Abstract

This paper examines the tying of lending to investment banking business by universal banks. Tying may alleviate credit rationing by assuring the lender of an adequate share of the social surplus that its lending generates; however, tying raises the profitability of loans to troubled entrepreneurs, softening entrepreneurial budget constraints and reducing effort levels. When investment banking is uncompetitive, the former effect dominates, and there is too little tying; when investment banking is competitive, there is too much tying. We relate our results to the authority structure of the universal bank, which we argue is the appropriate focus for regulation.